Last Updated: November 06, 2023
Consumers use credit cards daily. Credit cards offer signup bonuses, referral bonuses, airline miles, cash-back rebates, and other rewards to incentivize spending. Now, cryptocurrency exchanges provide credit cards that give you rewards in the form of cryptocurrencies. While these rewards are enticing, there is often confusion surrounding the tax implications.
Types of credit card rewards
There are various types of rewards, but from a taxation standpoint, there are two categories:
- Rewards that are considered income (Taxable)
- Rewards treated as rebates on purchases (Non-taxable)
General tax principles applicable to rewards
We can use the following general tax principles along with rewards-specific announcements and notices issued by the IRS (if applicable) to analyze the tax consequences of rewards.
IRC 61(a) defines gross income as “all income from whatever source derived,” which the courts have summarized to be “instances of undeniable accessions to wealth, clearly realized, and over which the taxpayers have complete dominion” (Commissioner v. Glenshaw Glass Company). For a taxpayer to have complete dominion, they essentially can control when to sell or transfer the asset without restrictions. When determining if the reward is taxable, the questions are “Do I have accession to wealth?” and “Do I have complete dominion and control (D&C)?”.
Typically, signup or welcome rewards come in the form of a specific dollar amount or extra reward points just for signing up. Regardless of the type, the value received is considered income.
For example, Jane gets 50,000 points worth $500 when signing up for a new crypto credit card.
The questions to consider are:
- Does she have accession to wealth? Yes, she received additional money or points she didn’t have before.
- Does she have complete dominion and control? Yes, she can spend the cash or redeem the points.
In this situation, the signup reward is taxable, and Jane has to report $500 of ordinary income.
Referral rewards are payments in exchange for a service (typically introducing a new user to a platform). These rewards are considered income because it is compensation received for performing a service (IRC 61(a)(1)).
For example, Jane receives $20 worth of bitcoin (BTC) when she refers her friend to get a credit card. Here, the referral reward is taxable, and Jane has to report $20 of ordinary income.
One unique crypto credit card reward is the lockup reward offered by Crypto.com. Crypto.com allows App customers to earn a 10 - 12% annual percentage rate (APR) of return paid in CRO tokens (Crypto.com’s Cronos Chain’s native token) on a specific amount of CRO tokens locked for 180 days. After the lockup period ends, customers can remove the tokens or continue to earn 4 - 8% APR on the locked tokens. (This reward system is similar to illiquid staking, which we discussed in our Cryptocurrency Staking Tax Guide.) These lockup rewards are not associated with your purchases. These rewards are earned based on the amount of CRO you have locked.
Is locking CRO taxable?
Crypto.com App users can purchase CRO tokens, deposit them into the App’s crypto wallet, go to the card tab, select their desired credit card, and lock up their CRO. This process is similar to illiquid staking, where a token is locked and unusable until you unstake. When analyzing illiquid staking, we rely on Reg §1.1001-1(a), which defines a disposal event that could trigger a capital gain or loss. To have a disposal event, two conditions must be met. 1) There must be an exchange of property (exchange requirement), and 2) the property received should materially differ from the property given up (material difference requirement).
An exchange may have occurred when CRO is locked, but another cryptocurrency is not received. Since another cryptocurrency isn’t received, locking CRO is not taxable.
For example, Hank, a Crypto.com App user with 6,000,000 CRO (worth $400,000), wants to get the Obsidian card. Hank selects the card and deposits his CRO. He does not receive any new tokens representing the locked CRO. Even though an exchange may have occurred, he did not receive new tokens that were materially different. Therefore, this event isn’t taxable because the material difference requirement is not met.
Are Crypto.com lockup rewards taxable?
Lockup rewards are deposited into a crypto wallet weekly and are immediately available. Based on Reg §1.451-2, constructive receipt of income occurs when it is credited to your account, set apart, or otherwise made available so that you may draw upon it at any time, and there are no substantial limitations or restrictions. If there are no restrictions, a person can have total D&C over the rewards. In other words, an individual has the ability to sell or transfer an asset without any restrictions. Since these lockup rewards increase your wealth and you have immediate access to them, they are considered income when received.
Hank receives $1,000 worth of CRO lockup rewards. These rewards are immediately available for him to sell, trade, or transfer. Hank has to report $1,000 as ordinary income.
Credit card rewards tax forms
You may receive a Form 1099-MISC if you receive more than $600 worth of rewards. If the rewards are less than $600, you may not receive a Form 1099-MISC. However, you still must report this amount on Schedule 1 line z, “Other Income” on your tax return.
Some rewards are not taxable because they are considered rebates on previous purchases. Rebates are akin to someone receiving a discount on a purchase. The IRS clarified the tax treatment of rebates in Rev. Rul. 76-96. The ruling clarifies that rebates are not gross income for qualifying retail customers and are not subject to tax. However, for customers, the rebate reduces the basis of the property they bought. The seller is allowed to deduct the rebate as ordinary and necessary business expenses under IRC 162.
For example, Lou purchases a new car for $30,000 and receives a $1,000 rebate from the manufacturer. Lou does not report the $1,000 rebate as income. The cost basis of his new car is $29,000 ($30,000 - $1,000). If he sells the car for $29,500 shortly after buying it, he will have a capital gain of $500 ($29,500 - $29,000) and need to report that as a short-term capital gain on his Form 8949. The manufacturer can deduct $1,000 as an ordinary expense on their business tax return.
Rev-Rul 76-96 was referenced as a key piece in the IRS’s reasoning in a tax court case (Anikeev v. Commissioner) involving taxpayers who utilized credit card rewards to their advantage. The couple used their American Express Blue credit cards to purchase Visa gift cards, money orders, and reloadable debit cards to earn Blue Cash Reward Dollars under the credit card's rewards program. They then redeemed these Reward Dollars for statement credits, receiving a cash payment. The IRS argued that the Reward Dollars were taxable income. The tax court ruled in favor of the taxpayers, stating that the IRS's long-standing policy has been not to include credit card rewards in gross income. The court held that the Visa gift card purchases were eligible for non-taxable rebates. However, the direct purchases of money orders and cash infusions into debit cards were taxable income.
For example, Harry receives rewards valued at $2,000 for everyday purchases. In addition, he receives $300 worth of rewards related to money order purchases. The $2,000 on everyday purchases is not taxable, but the $300 related to money orders is taxable as ordinary income. He must report this amount on Schedule 1 line z as “Other Income” on your tax return.
Travel miles are often earned from expenses related to personal or business travel. These rewards are treated like a rebate. You spend a specific amount to earn travel miles. The IRS released Announcement 2002-18 clarifying that miles earned through business or personal travel are not considered income as long as they are used for upgrade seats, free travel vouchers, and other benefits. (Note: Converting these rewards into cash may be taxable). While this is not official guidance, the IRS is not pursuing tax enforcement concerning the value of benefits an individual receives from travel or frequent flyer miles. The IRS will not assert that any taxpayer understated their tax liability for using miles, even if earned through business travel.
For example, Sarah earns 800 travel miles worth $400 related to purchasing a personal trip and another 200 travel miles worth $100 from business travel. Sarah chooses not to convert these rewards into cash. She plans to use the rewards to upgrade her seats on future flights. These rewards are non-taxable. Sarah does not have to report the $500 ($400 + $100) worth of travel miles as income.
Cash-back rewards are among the most popular credit card benefits that give users a percentage of their purchases back in cash and/or points. The good news is that cash-back rewards are generally not considered taxable income by the IRS. This is because the cash-back is a discount or rebate on purchases rather than additional income.
For example, Gail purchases $10,000 worth of goods and receives 5% cash-back on the purchase. The $500 ($10,000 x 5%) cash-back is not taxable because it is a rebate on the original purchase price.
Although the IRS has not issued any direct guidance on crypt-back rewards, we can apply the general principles in Rev-Rul 76-96 and the Anikeev case to determine the tax consequences.
For example, Betty uses her crypto reward card to purchase $1,000 of goods and receives a 0.0003 BTC ($10 value) rebate reward at the end of the month. Rev-Rul 76-96 states that rebates reduce the basis of the property purchased. Therefore, the basis of the goods purchased will be $990 ($1,000 - $10). The cost basis of the 0.0003 BTC is $10, which is not income when received. She spent $1,000 and has $1,000 worth of property ($990 in goods + $10 in BTC reward). There is no accession in wealth. She is a savvy shopper and was able to get a discount because of her crypto reward card.
If she returns the goods and keeps the BTC reward, she would have $10 of ordinary income to report on her tax return. She has her original $1,000 and has an additional $10 accession in wealth due to the BTC reward.
Is selling crypto rewards subject to capital gains tax?
Yes, selling cryptocurrency rewards will be treated as any other disposal and included in the capital gain calculations. If Betty sells her 0.0003 BTC ($10 value) for $11 a few days after receiving it, she will have a $1 ($11 - $10) short-term capital gain reported on her Form 8949.
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Disclaimer: This post is informational only and is not intended as tax advice. For tax advice, please consult a tax professional.